The market reputation thesis (Hunger 2001,2005)

Main subject of my current research is the context of vertical market segmentation and IPO-underpricing. On the basis of an empirical analysis of the European equity markets I am analyzing especially the influence of the reputation of the prevailing market segments.

My research is based on the analysis of the German, Austrian, Suisse, Italian and French Equity Markets with about 800 IPOs from 1996 to 2003 and about 400 IPOs from 2004-2008, thus means in total more than 1.200 IPOs.

An enlargement of the empirical analysis with new data of about 200 IPOs of the US-market will follow briefly.

Underpricing, so the central thesis of my empirical research, is attributed to the scarcity of suitable (vertical) market segments, depicting the specific risk of an IPO-debutant.

However, each vertical market segment possesses a certain reputation due to the respective listing requirements, the marketing of the stock exchange, there presence in the media and the historical and jurisdictional arrangement in the national/international capital market. This reputation of the market segments is correlated that way with the IPO-Underpricing, that underpricing is the higher, the lower the reputation of the market segment is.

Then, choosing that market segment with the highest reputation an issuer could maximize his issue proceeds while going public. However, as long as an issuer is not able or willing to meet those expectancies of investors in order of the chosen market segment, the issuer will run the risk of being exposed – and such a behavior could leads to stock price losses overcompensating the initial (maximized) issue proceeds.

Insofar, it would be more rational, to choose for the initial public offering a market segment with a lower market reputation und put up with the underpricing (i.e. reduction of the fair value) because e.g. investors expectancies attached with an IPO in that market segment could be more than fulfilled – which could lead to a higher attractiveness of the stock an therefore will lead to higher stock prices overcompensating the initial underpricing.

IPO-underpricing, therefore, is the necessary consequence of the prevailing reputation of the market segments for an IPO – especially because there are no sufficient market-segments for the various venture risks. Moreover, the creation of reputation takes place on the basis of qualitative factors which are not suitable to permit a testimony about the specific risk of an issuer.

A reduction or elimination of IPO-underpricing therefore is only possible, when there are sufficient market segments for the various venture risks. Since, to give an example for the German equity market, an issuer bears not per se more risks while choosing the Freiverkehr for the Going Public than an issuer choosing the Amtlicher Handel/Prime Standard.

More information is available in my latest book "IPO-Underpricing im Kontext einer vertikalen Marktsegmentierung" - just have a look.